How to Equalize Income

The terms free trade and income inequality are bandied about by Republicans and Democrats quite often, but rarely together. In fact, they are essentially yoked at the hips.

Start with income inequality, what do the critics hope to accomplish? They say that the difference between what high income earners earn and low income earners earn is too great. They want to make the earnings more equal. That is what they say, but what does it mean, how would it work? Assume that the low income person makes $10 per hour and the high income person makes $1,000 per hour. Assuming that one can wave their magic income wand, how would they correct this income inequality? Would they be happy if it was transformed to a low of $10 and a high of $100? How about a low of $0 and a high of $10? Which of the following would have the least income inequality: $10/1,000:$10/100:$0/10? Obviously, the least unequal outcome would be $0/10, which is only unequal by $10.

The lowest possible income is always the same, zero dollars. Raising the minimum wage from $0 to $15 does not work because it creates still more people earning $0. (Simple supply and demand analysis as realized by the 95,000,000 Americans out of work under today's Democrats.) In order to move society toward income equality, the only factor that can be changed is the higher income. The high income must be lowered! Hence, when Democrats argue that income inequality must be decreased, they actually mean that high incomes must be lowered! Then they demand the coercive forces of Government be commandeered to lower high incomes by unfair taxation and redistribution. They argue that it is not the wage earners money, in spite of the wage earner's labor, risk and so on. They contend that it is the Government’s money do the fair thing with. The essence of reducing income inequality is to lessen maximum wages by Government force and loss of freedom. (Actually, there is another way, ask any entrepreneur who has lost money in trying to start or run a business: they can actually earn negative income.)

Of course it would be preposterous for the Democrats to campaign on restricting the maximum income that one can earn. But that is the ultimate impact of the income inequality mindset.

How does all this relate to free trade? Many Republican pundits argue that there should not be tariffs because they would be a barrier to global free trade. They espouse that free trade is good for everyone and a proper allocation of limited resources. Those resources are capital and labor, the requirements for starting and running a business. The United States has always had an advantage of providing a safe haven for capital. With its freedom and security, it is considered the one of the safest places on Earth to locate one’s capital. The danger of other governments seizing one’s capital by their law or fiat makes it much riskier to locate there, especially in socialist or Communist countries. However, the United States has one of the highest costs of labor in the world. The labor cost is so high that some companies have decided to risk the loss of capital by moving to China or Mexico because labor is so cheap in those countries.

What would happen if the free traders won? Assume that there are no barriers to trade between countries. (In fact, there are others besides risk, such as business taxes and cost of transportation to market, but those are insignificant when cost of labor is widely disparate.) Assume labor cost in China is $1 per hour; labor cost in Mexico is $4 per hour; and, labor cost in the United States is $40 per hour. With these facts, if you were a business person wanting to invest your capital, where would you locate your factory? Obviously, you would earn the highest return on your capital investment if you located in China. Even after factoring in transportation to markets outside China, the cost of labor is so low that a company would still make the highest return by locating in China. With lower transportation costs to the United States from a factory located in Mexico, many costly to ship items would be still be more profitable if a company located in Mexico.

So how does free trade relate to income inequality? After years of companies locating in China, the demand for labor will increase the cost of labor. So income will rise from $1 per hour. Likewise after years of lower demand for labor in the United States, income will fall. The $40 per hour will drop radically. After years of free trade, labor costs will eventually equalize. Labor costs in China, Mexico and the United States will become essentially equal. (Probably a lot closer to China’s $1 per hour than to the United States’ $40 per hour! Assume it reaches equilibrium at $4 per hour.)

Thus, eventually both Republican global free traders and Democrat income equalizers will have accomplished their dreams. Everyone in the United States will earn the same as people all across the globe. What wonderful income equality: Chinese, Mexicans and Americans will all earn $4 per hour!

Of course this overlooks one factor, businessmen with business outside of the US will still earn quite a lot, probably well in excess of the $1,000 per hour the greedy American businessmen started with.

Have you been able to figure out who the only loser is? (Hint: they work in the United States.)

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